Six Critical Implementation Steps to ABC Costing

ABC Costing is a supplemental method of cost accounting that provides
the decision-making information absent from traditional costing methods.
While ABC costing is not limited by business unit boundaries, it can
not fully supplant traditional costing methods as it often fails to meet
financial reporting requirements for businesses.

ABC Costing focuses on costs contributing to production of a product.
It does not attribute other general costs that do not have at least an
indirect relationship to the product. While traditional costing systems
focus on direct costs and burden a product with other fixed costs,
activity based costing increases accuracy of indirect cost assignment.

Implementation Steps

Step #1: Activity Identification

First, activities must be identified and grouped together in activity
pools. Activity pools are the supporting activities that tie in to a
product line or service These pools or buckets may include fractionally
assigned costs of supporting activities to individual products as
appropriate during the second step.

Step #2: Activity Analysis

ABC continues with activity analysis, clearly identifying the
processes which support a product and avoiding some of the systemic
inaccuracies of traditional costing. ABC costing requires activity
analysis, similar to the process mapping found in lean manufacturing.

This
activity analysis identifies indirect cost relationships and allows
assignment of some percentage of that activity to an end product
directly.

Step #3: Assignment of Costs

Based on the findings of step #1 and #2, costs are assigned to an
activity pool. For example, human resources costs would be assigned to
indirect administrative or indirect management costs. These pools will
each have some contribution to object cost.

Step #4: Calculate Activity Rates

Initial analysis may include direct labor hours, or indirect support
labor. These activities must be assigned a value in real currency. All
weightings must be added at this step. For instance, production labor
hours should be in terms of a weighted labor rate including benefit
costs.

Step #5: Assign Costs to Cost Objects

Once activity costs, pools and rates are identified and clearly defined,
the next step is to assign them to cost objects. Objects are generally
defined as the results offered to a customer. In both manufacturing and
non-manufacturing environments, this product should have some saleable
value to compare to the assigned costs.

Step #6: Prepare and Distribute Management Reports

Once ABC costing analysis is complete, that cost data should be
placed in a concise and coherent manner for cost object and process
owners. This communication of the costing analysis is critical to
justify the cost of the analysis, as often this is not an
inconsequential cost.

Conclusion

ABC
costing does nothing for the organization if the information is
collected but no action follows. The key to the value of this form of
costing is that it is actionable. This analysis allows companies to make
decisions about product lines, where to direct sales efforts, and to
validate the true value provided by capital equipment.